INTERVIEW: Buffett Rule a ‘Fair Share’?

by Kyle Woodley | April 13, 2012 8:12 am

On Monday, the Senate is scheduled to vote on the “Paying a Fair Share Act,” commonly known as the Buffett Rule[1], which would require people earning more than $1 million per year to pay at least a 30% federal tax rate.

However, the “lower” taxes these high-earners currently pay aren’t necessarily cut-and-dry, and the concept of whether they aren’t a “fair share” is up for debate.

InvestorPolitics[2] recently took a few minutes to talk to Brad Badertscher, Assistant Professor of Accountancy at the University of Notre Dame’s Mendoza College of Business and an expert on tax liabilities of private equity firms, about the taxation of the “1%,” several aspects of the Buffett Rule and the consequences of its passing. Here’s what he had to say.

Q: The Buffett Rule’s basic premise is that households making more than $1 million a year should pay no less than 30% of their income in taxes. You contend this already is the case. Please explain.

A: According to a recent study by the nonpartisan Congressional Budget Office, if you add up all the taxes paid to the federal government — individual, capital gains, payroll, corporate taxes, etc. — the top 1% have an effective tax rate of 30.4%, while the top 20% have an effective rate of 25.5% and the bottom 20% have an effective rate of 4.3%.

My view is that one should consider the total amount of taxes paid to the federal government, not just in the form of income taxes. If one pays a lower income tax (i.e., as a result of capital gains) but they allocated money to a business that pays a significant amount of corporate taxes to the federal government, then that should be considered when examining the amount of taxes paid to the federal government for that individual. Despite the difficulties in measuring total taxes paid, I think it provides a more accurate picture of the tax burden for individuals.

Q: Though pundits give the Buffett Rule little chance of passing, what do you think the “effective” tax rate for the top 1% would be if it did pass?

A: Using the two most recent years of available data (2006 and 2007), the effective tax rate on the top 1% was 19%. So if the government now imposes a 30% minimum rate and leaves the federal individual rates as they currently are, I would guess the effective rate would be around 35% to 38%.

The main driver of the low effective rate for the top 1% is the capital gains tax rate of 15% and the fact that payroll taxes are not subjected to all types and all amounts of income. If one raised the capital gains tax to 30% — which in my view would have negative ramifications on the economy and flow of capital — then that would significantly raise the effective tax rate of the top 1%.

Q: Past those paying the tax, who else would feel the effects of a Buffett Rule, if anyone?

A: That is unclear, but we know it would not be the federal deficit, as this plan will have very little impact on decreasing the deficit. Specifically, according to a joint committee on taxation, the Buffett Rule would only raise $47 billion over 11 years. That is 0.7% of the $6.4 trillion in debt President Barack Obama’s budget creates over the same time period. So the upside is a 0.7% reduction in the deficit over 11 years, but the downside is the possibility that the top 1% reduces investing in the U.S and stops creating jobs. The downside risk doesn’t seem to justify the minimal economic benefit.

Q: Why push this through individually, rather than as part of larger tax reform?

A: Good question. Given the upcoming election, President Obama is not likely to get any larger tax reform passed. Instead, this whole debate seems to be more about differing views on what is “fair” rather than on actual substance.

Q: “Fair” is a word that gets thrown around a lot when it comes to the legislation — not the least of which is its title, the “Paying a Fair Share Act.” What are your thoughts on this?

A: This issue really comes down to what is “fair” because the potential downside of increasing the taxes on the top 1% seems to outweigh the economic benefit. The same “fairness” argument was brought up when President Obama proposed raising the taxes on oil companies by eliminating specific tax breaks. However, the two tax breaks President Obama suggested eliminating specifically for the oil companies were tax breaks for all industries that manufacture in the U.S., not just oil companies. Such cherry-picking of very profitable industries (or individuals, when talking about the Buffett Rule) hardly seems “fair.”

The discussion thus far has been on increasing federal revenues, but in my opinion, the focus should be on decreasing spending. By doing so, there are likely more deficit-reducing areas in which people will agree on what is “fair.”

The opinions contained in this column are solely those of the writer.

Want to share your own views on money, politics and the 2012 elections? Drop us a line at letters@investorplace.com and we might reprint your views in our InvestorPolitics blog! Please include your name, city and state of residence. All letters submitted to this address will be considered for publication.